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Outside IR35

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Outside IR35

Outside IR35

If your contract is outside IR35, then there is no restriction on how you get paid and you can choose to withdraw funds from your company by standard pay of dividend salary.


If your contract falls outside IR35, you will typically draw a modest salary from your limited company. This will minimize your exposure to employers’ and employees’ National Insurance Contributions (NICs) and income tax.

You can choose to withdraw funds from your company by a salary or dividends. In addition to this, you can claim travel and subsistence expenses.


The profit that a limited company makes after paying all business expenses and liabilities is distributed to the shareholders as dividends.

Paying out profits as dividends is a tax efficient method of operating as company dividends do not attract National Insurance Contributions unlike employment income.

Tax payable on dividends for tax year 2016 – 17
Tax rate Tax band 2016-2017 Dividend tax rate
Basic £0 - £31,785 7.5%
Higher £31,786 - £150,000 32.5%
Additional £150,000 38.1%

A new dividend tax regime was announced in the July 2015 Budget which was enforced from April 2016.

Dividend tax from April 2016

According to the new rule, the current system of 10% tax credits has been abolished and every contractor who earns dividend income receives £5,000 of dividend allowance which is free from any tax liability. The dividend allowance is given after the personal allowance is taken into consideration which is £11,000 from April 2016.

Dividend income in excess of £5,000 will be taxed at new dividend tax bands which is:

•   7.5% (basic rate)
•   32.5% (higher rate)
•   38.1% (additional rate)

The below illustrations are based on assumptions that:

  • Personal allowance (PA) of £11,000 for 2016/17
  • Basic rate (BR) threshold of £32,000
  • Higher rate (HR) threshold of £43,000

Illustration 1 - £8,500 salary, £15,000 dividend income

  Income Personal allowance Basic rate band
Non-dividend income £8,500 £8,500  
Dividend income £15,000 £2,500 £12,500
Total £23,500 £11,000 £12,500
Tax on Dividend      
Less: Dividend allowance     (£5000)
Taxed @ 7.5%     £7,500
Tax due     £562.5

Illustration 2 - £20,000 salary, £25,000 dividend income

  Income Personal allowance Basic rate band
Non-dividend income £20,000 £11,000 £9,000
Dividend income £25,000 - £25,000
Total £45,000 £11,000 £34,000
Tax on Dividend      
Dividend in basic rate band (32,000)     £23,000
Less: Dividend allowance     £5000
Taxed @ 7.5%     £18,000
Taxed @32.5%     £2,000
Tax due     £2,000

Illustration 3 - £40,000 salary, £10,000 dividend income

  Income Personal allowance Basic rate band High rate band
Non-dividend income £40,000 £11,000 £29,000  
Dividend income £10,000 - £3,000 £7,000
Total £50,000 £11,000 £32,000  
Less: Dividend allowance     £3,000 £2,000
Taxed @ 32.5%     0 £5,000
Tax due     - £1,625

The above example is for illustration purpose only. The actual net take home will vary depending on your income sources and employment status.

Claiming business expenses

Contractors will incur a wide range of expenses while running their limited companies and they will be able to claim only genuine and legitimate business expenses. The rule for all expense claims is that they can claim only for those expenses which are incurred wholly, exclusively and necessarily for the purpose of your business.

Moreover, they cannot claim for expenses that have been incurred for both personal and business use. They have to ensure their contract falls outside IR35 and the 24-month rule does not apply to them.

Here is a list of expenses that contractors can offset:

Business mileage/travel expense
Temporary accommodation expenses
Use of home as office
Professional subscriptions and fees
Clothing, tools and equipment
Office equipment
Bank charges
Accountants’ fees
Business insurance
Sundry expenses (office stationery and postage)
Legal fees
Pension contributions

All business expenses should ideally be paid out of business bank account and receipts need to be retained for claiming expenses.

Travel and subsistence cost

HMRC published the draft legislation on travel and subsistence in the Finance Bill 2016 confirming the restrictions on travel and subsistence expenses. From April 2016, temporary workers working through their own limited company will not be allowed to claim tax and NICs relief on travel and subsistence cost if their assignment is caught under IR35 or the worker does not receive remuneration as employment income. If you are operating outside of IR35, this restriction does not apply to you.

Temporary workplace – 24-month rule

Contractors can claim travel and accommodation expenses, but this is only possible when they comply with the HMRC’s 24-month and 40% rules about “temporary workplace”.

The 24-month rule

If you spend or are likely to spend 40% or more of your working time at a particular workplace over a period of more than 24 months the workplace is considered as a permanent place of work and, hence, there will be no relief on travel between their home and work.

If you go over the 40% rule but do not spend more than 24 months at the same workplace then you can continue to claim travel expenses. The 24-month rule and the 40% rule work together.

How does the 24-month rule work?

Where a contract is offered for less than 24-months and you’re outside IR35 then you can claim travel expenses. For example, if you sign a contract of 12 months, you can claim travel expenses. During the contract if a 6 month extension is awarded, you can continue to claim travel expenses as the total time spent at the work place will be 18 months.

At the end of 18 months if there is another extension of 6 months you can continue to claim expenses right up to the end of the 24 month. However, if that final contract extension had been for 12 months, no claims can be made from the date of change as the workplace is no longer considered a temporary workplace.

Similarly, if the contract was expected to be more than 24 months but is then changed to be less, then expense claims are allowable from the date of the change. To re-set a 24-month rule it is the work place and time taken to commute and not the client or a contract which is of significance. HMRC’s rule says “the cost of the journey or the journey itself has to change”.

To understand the resetting of the 24-month clock, you can check HMRC’s example here